TEXT-S&P summary: Technicolor S.A.
(The following statement was released by the rating agency)
Oct 15 -
Summary analysis -- Technicolor S.A. ------------------------------ 15-Oct-2012
CREDIT RATING: B/Stable/B Country: France
Primary SIC: Radio
Mult. CUSIP6: 88509V
Credit Rating History:
Local currency Foreign currency
23-Aug-2012 B/B B/B
29-Mar-2011 B-/B B-/B
20-Oct-2010 CCC+/C CCC+/C
01-Jun-2010 CCC-/C CCC-/C
01-Dec-2009 D/D D/D
07-May-2009 SD/SD SD/SD
29-Jan-2009 CC/C CC/C
02-Dec-2008 B/B B/B
04-Aug-2008 B+/B B+/B
20-May-2008 BB-/B BB-/B
11-Mar-2008 BB/B BB/B
The ratings on French technology company Technicolor S.A. reflect Standard & Poor's Ratings Services' assessment of the company's business risk profile as "weak" and its financial risk profile as "aggressive."
The ratings are constrained by our opinion of the limited trading visibility on the company's businesses, operating pressures in the highly competitive set-top box and mature physical media businesses, sizable debt, modest free operating cash flow (FOCF), and the expiration in the medium term of its largest licensed pool of patents.
These constraints are mitigated by the company's leading positions in certain services and products that are centered on video technologies, its sizable patent portfolio, sound growth prospects for digital services technology in the media and entertainment industries, longstanding relationships with Hollywood studios and some large telecom network service providers, and, importantly, its adequate liquidity position, according to our criteria.
S&P base-case operating scenario
We anticipate in our base-case scenario that Technicolor will post sound operating performance in 2012 and 2013, with both revenues and EBITDA growing in the low single digits. Technicolor will likely post resilient licensing revenues over 2012-2013, on the back of its broad and good quality patent portfolio, and despite tough economic conditions that could affect the consumer electronics market. In addition, we expect Technicolor's earnings to benefit from an increasing demand for visual effects, postproduction services, and digital cinema distribution, as well as a moderate rebound in the highly competitive digital delivery business, including set-top box activities. Technicolor launched a turnaround plan in early 2012, aiming to restore breakeven EBITDA before restructuring costs in 2012.
These factors mitigate to some extent the continuing gradual volume and price decreases in its large DVD business. Still, physical media should remain a key cash flow contributor to the company, notably thanks to ongoing efforts to optimize the cost structure.
S&P base-case cash flow and capital-structure scenario Technicolor prepaid about EUR164 million of its debt--about 11% of total--in the third quarter of 2012, using cash proceeds from the recent completion of two capital increases and disposal of its broadcast business.
Importantly, we believe the debt prepayment has to some extent improved the company's ability to comply with its financial covenants over the next two years. Still, we expect Technicolor's liquidity to remain an important factor for its rating in the coming years. We view the company's liquidity as "adequate," according to our criteria as of June 30, 2012, and pro forma for the debt prepayment (see "Liquidity" section below).
By year-end 2012, we anticipate that Technicolor could generate FOCF from continued operations somewhat below the EUR95 million generated in 2011. Slight EBITDA growth, lower interest expense pro forma for the debt reduction, and reduced cash outflow from discontinued operations compared with 2011 should be offset by higher restructuring costs and negative net working capital movement associated with the rebound in the digital delivery division.
Gross reported debt was broadly stable, at EUR1.32 billion on June 30, 2012, (EUR1.5 billion equivalent at nominal value), but declined to about EUR1.15 billion pro forma for the debt prepayment. We project for Dec. 31, 2012, the company's ratio of adjusted debt (at fair value) to EBITDA to be below 4.0x and funds from operations (FFO) to adjusted debt at over 15%. We anticipate a slight strengthening of these ratios in 2013.
Our short-term rating on Technicolor is 'B'. We consider the company's liquidity to be "adequate" as of June 30, 2012, under our criteria. Pro forma for the recent debt prepayment, we calculate that its liquidity sources should exceed liquidity needs by over 2.0x in the next 12 months.
Our view on Technicolor's liquidity is supported by:
-- Surplus cash. As of June 30, 2012, we calculate surplus cash at about EUR205 million. We deduct EUR100 million from the group's reported cash and short-term marketable securities of EUR305 million, to factor in working-capital swings, including seasonal swings and day-to-day cash operating needs, and to cover cash trapped in operations or located in countries where repatriation is difficult. If the company continues to grow, it could consume higher cash levels for net working capital;
-- Two undrawn committed asset-backed credit lines--one for $125 million maturing in April 2016 and the other for EUR100 million maturing in April 2013. We understand the latter facility will be either extended or replaced by a broadly similar new facility in the coming months;
-- Close to EUR40 million of additional cash received from the capital increases. This consists of the part of proceeds that were not used for debt prepayment;
-- FFO, after restructuring costs, in excess of the EUR245 million generated in full-year 2011.
We believe that these liquidity sources should adequately cover liquidity uses in 2012 and 2013, which primarily include debt amortization (in euro equivalents and at nominal contracted value) of EUR37 million in September 2012, EUR37 million in March 2013, and EUR45 million in September 2013. We expect, in our base-case scenario, positive FOCF to be just enough to absorb the combination of scheduled debt repayments and some small cash outflows from discontinuing operations in 2012 and 2013. We do not anticipate that Technicolor will fund part of its mandatory debt repayments through some of its available cash balances.
The main risk regarding Technicolor's liquidity, in our opinion, is the company's tightening maintenance financial covenants. The documentation of the reinstated debt includes some maintenance covenants that tighten significantly by year-end 2012, 2013, and 2014. In addition, the debt figure used in covenant calculations is based on reported fair value at issuance, which we expect to gradually increase to nominal value over time. Headroom was adequate at end-June 2012--ranging from 22% to 28%--and should remain at or above 20% over the next 12 months in our base-case scenario opinion, supported by recent debt prepayment, a related slight reduction in interest expense, and our expectations of gradual EBITDA growth.
We think, however, that Technicolor's liquidity position, and in particular its covenant headroom, could be volatile because some uncertainty in industry demand and adverse foreign exchange fluctuations could affect the company, as illustrated by the company's historically uneven operating and financial performance.
At this stage, despite the amendment in the second half of 2011 of its senior debt documentation to increase financial flexibility regarding joint ventures, acquisitions, and disposals, we believe Technicolor will be very prudent in reducing its available cash, given its uneven operational performance.
The EUR876 million-equivalent term loans with final maturity 2017, and the EUR566 million-equivalent notes with final maturity 2017 (outstanding as of June 30, 2012; together referred to as "reinstated debt"), borrowed by Technicolor, have a 'B' issue rating and a recovery rating of '3', indicating our expectation of meaningful (50%-70%) recovery prospects in the event of a default.
For the purpose of our recovery analysis, we simulate a payment default in 2014, based primarily on weak trading levels that would lead to a reorganization of the company.
Using a market-multiple approach, we estimate Technicolor's stressed enterprise value at our hypothetical point of default to be about EUR1.2 billion, based on EBITDA at default of about EUR300 million.
After deducting about EUR495 million of priority liabilities, comprising enforcement costs, the asset-backed receivables facilities (which we assume to be drawn at the point of default), and minor debt at operating companies, we estimate that coverage for the reinstated debt and prepetition interest would be in the 50%-70% range, translating into a recovery rating of '3'.
The stable outlook reflects our expectation that Technicolor will be able to gradually increase its EBITDA before restructuring costs and its free cash flow generation over the next two years, enabling it to meet growing annual debt amortization without affecting its cash balance. The outlook also takes into account our view that the company will likely maintain adequate liquidity in the form of cash balances of at least EUR150 million, and covenant headroom at a minimum of 20%.
We could consider a negative rating action over the next 12 months if trading conditions deteriorated, as a result of a major economic downturn or increasing competition, and led to a weakening of Technicolor's free cash flow generation or its cash position, or a prolonged reduction in covenant headroom to less than 20%.
Ratings upside, although unlikely in the next 12 months in our opinion, could arise if Technicolor were able to post sustained and accelerated earnings growth, with annual FOCF reaching EUR150 million or more, while maintaining adequate liquidity prospects.
Related Criteria And Research
-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
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